Russian President Vladimir Putin must have an eye on Belarus, which this month celebrates the anniversary of the end of most EU sanctions. Relations between the small ex-Soviet republic and the 28-county bloc to its west have been improving about as fast as relations with its large neighbour to the east deteriorate. But the dropping of the sanctions regime has had little economic impact on the struggling country.

Belarus has been a pariah in the West for most of President Alexander Lukashenko’s rule since 1994, epitomised by former US secretary of State Condoleezza Rice dubbing it “the last dictatorship in Europe”. However, as Russia’s political conflict with the West intensified since 2014,  the EU has become more open to driving a wedge between Putin and his erstwhile ally, while at the same time Lukashenko has become increasingly disillusioned with the benefits of the Russian-led Eurasia Economic Union (EEU) free trade club. Russia and Belarus have also been locked in an energy dispute that is hurting Belarus in the pocket, with Gazprom demanding settlement of a $550mn bill for past supplies.

Economic hit

The Belarusian economy declined in January by 0.5% year-on-year instead of forecasted growth of 1% due to the cut in crude oil supplies from Russia, Prime Minister Andrei Kobyakov told the cabinet on February 21. “A year ago we refined 0.8mn tonnes of oil more [than in January 2017]. This resulted in a 3.3-percentage-point decline in industry and 4.5-percentage-point decline in wholesale trade,” Interfax news agency quoted Kobyakov as saying. “As a result, 1.5% of GDP was lost. That is, if oil supplies were the same as last year, GDP would have grown 1% in January.”

Russia intends to cut oil supplies to Belarus from 4.5mn tonnes to 4mn tonnes in January-March on the back of the unresolved gas pricing dispute. According to Kobyakov, the Belarusian government was not able to compensate for “such a sensitive factor” in January, “although work on this is underway”.

Since the start of July 2016, Russia supplied 40% less oil to Belarus than in the second quarter because of the Gazprom debt dispute. At the orders of Lukashenko, Minsk is now looking to diversify its oil supplies. In February, Belarus bought 600,000 barrels (equals 80,000 tonnes) of Iranian Light and Heavy crude oil from National Iranian Oil Company (NIOC) for loading its two refineries. Belarus has also started taking deliveries of oil from Azerbaijan.

All of this left the door open for the EU to step through and there are plenty of investors who are eyeing the republic as the last potential low-cost production base for goods to be exported to the rest of Europe. Software company EPAM that is also listed on the NYSE has already proven the point, using Belarus as a production base for its software that is sold all over the world.

Lukashenko made the EU’s life easier by allowing an opposition politician to enter parliament in December. He retains a tight personal control over the republic, but the gesture was enough to allow more easing of restrictions on Belarus by Brussels.

Clean sheet (almost)

On February 15, 2016, the Council of the European Union lifted most of the sanctions imposed in January 2011. (The EU ministers retained sanctions against members of Lukashenko’s security service suspected of involvement in the disappearance of four political opponents, and an arms embargo remains in place.) 170 Belarusian nationals and three companies were taken off the EU ‘black list’, which opened a new chapter in Belarus-EU relations. It also brought to an end a diplomatic cycle where each round of presidential elections led to another round of criticism or/and sanctions.

Relations are improving but this has yet to translate into more business. The government has instituted a new series of reforms manifested in the creation of the Belarusian Development Bank, which above all is supposed to end wasteful state spending on promoted projects, but there is still a long way to go.

“While both sides look determined to continue the rapprochement, the relations still face challenges and no exaggerated expectations should be entertained,” Yauheni Preiherman, head of the Minsk Dialogue Track-II Initiative and Chairman of Board of the Discussion and Analytical Society Liberal Club in Minsk, said in a recent report published by Berlin Economics.

The sanctions were imposed following the authorities’ brutal suppression of demonstrations over rigged election results the preceding December. The reaction was so extreme that Sweden broke off diplomatic relations, closing its embassy in Minsk and prompting the Belarusians to do the same in Stockholm.

However, relations began to normalise again after Vladimir Makei was appointed Minister of Foreign Affairs in September 2012.

The US also adopted an undeclared policy of “small steps” where difficult issues were shelved for later discussion and talks focused on practical areas of mutual interest where concrete results were possible. An example was the issue of political prisoners: without admitting they were holding any political prisoners, the Belarusian authorities released all those identified as prisoners of conscious by the West, setting the last one free in August 2015. The relatively open presidential and parliamentary election (by Belarusian standards) in October and September the same year was another piece in the puzzle.

“The EU saw the presidential elections of October 2015 as another important milestone. The peaceful nature of the campaign and its relatively non-negative assessment (compared to the previous ones) by international monitors made it possible for the EU to lift most sanctions. Importantly, for the first time in two decades the presidential elections did not result in a deterioration of Belarus-EU relations and even paved way for further normalisation,” says Preiherman. The parliamentary elections of September 2016 was more of the same.

The rapprochement has been helped by Lukashenko’s increasingly defiance of his masters in Moscow. The Kremlin must have been extremely annoyed by his calls for an end to the fighting in eastern Ukraine and his attempts to woo the new Petro Poroshenko regime. To add insult to injury, Minsk has yet to officially recognise Russia’s 2014 annexation of Crimea.

Scant returns

Still, despite all this progress the economic benefits to Belarus have been paltry. In May 2016, Lukashenko paid his first visit to an EU capital – Rome – in six years and the foreign minister Makei has since become a regular guest in the EU.

If investment is going to rise as a result of all this diplomatic leg work then it is most likely to come first from Latvia, Poland, Slovakia, Hungary, Austria, Germany and Italy. Austria has recently opened an embassy in Minsk, while Belarus has reopened its embassy in Stockholm as well as a new one in Madrid.

Trade did not pick up in first year following the end of sanctions, with the turnover actually falling 22.3% to $11.2bn, according to state statistics office Belstat. Exports dropped by a third (33.7%), while imports decreased by 5.6% in the same period. And there was no noticeable change in inbound investment.

If Minsk is to build up trade and investment with the EU it needs to negotiate a new framework agreement as the existing one is still based on Soviet-era norms. Visa liberalisation with the EU will also be a sticky issue, although Lukashenko took the dramatic step of unilaterally easing visa restrictions on 80 countries at the start of this year. The measure took effect on February 12, again, to the annoyance of Moscow which has a porous border with belarus and fears unauthorised entry of its territory  by third-country citizens.

“Minsk will also continue to put effort into promoting all forms of dialogue between the EU and the Eurasian Economic Union. Such a dialogue would be important for Belarus for economic and security reasons,” says Preiherman. “It is not surprising therefore that ‘connectivity’ has been selected as the slogan of Belarus’s current presidency of the Central European Initiative.”